Problem - Prepare and Interpret Income Statements; Changes in Both Sales and Production; Lean Production
Starfax, Inc., manufactures a small part that is widely used in various electronic products such as home computers. Operating results for the first three years of activity were as follows (absorption costing basis):
|
Year 1
|
Year 2
|
Year 3
|
|
Sales
|
$1,612,000
|
$1,289,600
|
$1,612,000
|
|
Cost of goods sold
|
780,000
|
540,800
|
832,000
|
|
Gross margin
|
832,000
|
748,800
|
780,000
|
|
Selling and administrative expenses
|
124,000
|
113,600
|
124,000
|
|
Net operating income (loss)
|
$708,000
|
$635,200
|
$656,000
|
In the latter part of Year 2, a competitor went out of business and in the process dumped a large number of units on the market. As a result, Starfax's sales dropped by 20% during Year 2 even though production increased during the year. Management had expected sales to remain constant at 52,000 units; the increased production was designed to provide the company with a buffer of protection against unexpected spurts in demand. By the start of Year 3, management could see that inventory was excessive and that spurts in demand were unlikely. To reduce the excessive inventories, Starfax cut back production during Year 3, as shown below:
|
Year 1
|
Year 2
|
Year 3
|
|
Production in units
|
52,000
|
62,400
|
41,600
|
|
Sales in units
|
52,000
|
41,600
|
52,000
|
Additional information about the company follows:
a. The company's plant is highly automated. Variable manufacturing costs (direct materials, direct labor, and variable manufacturing overhead) total only $3 per unit, and fixed manufacturing overhead costs total $624,000 per year.
b. Fixed manufacturing overhead costs are applied to units of product on the basis of each year's production. That is, a new fixed manufacturing overhead rate is computed each year.
c. Variable selling and administrative expenses were $1 per unit sold in each year. Fixed selling and administrative expenses totaled $72,000 per year.
d. The company uses a FIFO inventory flow assumption.
Starfax's management can't understand why profits doubled during Year 2 when sales dropped by 20%, and why a loss was incurred during Year 3 when sales recovered to previous levels.
Requirement 1: Prepare a contribution format variable costing income statement for each year.
Requirement 2: Refer to the absorption costing income statements above.
(a) Compute the unit product cost in each year under absorption costing.
(b) Reconcile the variable costing and absorption costing net operating income figures for each year.
Requirement 3: The reduction in cost due to increased production, combined with the large amount of fixed manufacturing overhead cost deferred in inventory in the year 2 resulted in the rise of net operating income even though sales were down. Is the statement true or false?
True
False
Requirement 4: The added costs charged against Year 3 were greater than the costs deferred to future years, so the company reported less income for the year even though the same number of units was sold as in Year 1. Is the statement true or false?
True
False
Requirement 5: (a) With lean production, production would have been geared to sales in each year so that little or no inventory of finished goods would have been built up in either Year 2 or Year 3. Is the statement true or false?
True
False
(b) If lean production had been in use, the net operating income under absorption costing would have been the same as under variable costing in all three years. Is the statement true or false?
P7_16_A_id6
P7_16_A_id10
P7_16_A_id21
P7_16_A_id25
True
False